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Taxation of 403(b) Distributions by New York State


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Since 1979, the Teachers' Retirement System of the City of New York has administered a supplemental 403(b) plan. In error, the Department of Taxation and Finance treats the TRS 403(b) plan as a pension plan of local government.  Pensions of local government are exempt from the state income tax. The 403(b) plan is pre-tax.  Making distributions tax free changes the 403(b) contributions from being pre-tax to tax-free.  We all know there is no such such thing as a tax-free retirement plan.  See:  NY State Department of Taxation and Finance publication 36 p.12.  

What say you?

 

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2 hours ago, QDROphile said:

States can determine state tax policy through law as they see fit, subject to federal constitutional limits.

No comment on interpretation or implementation of the law.

With respect, have you digested the cited publication?

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6 hours ago, joel said:

We all know there is no such such thing as a tax-free retirement plan.

Contributions to an HSA are tax-free if spent on qualifying expenses. Many people use them as a retirement savings vehicle.

Individuals with income less than certain thresholds do not have to pay income tax in that year. If such an individual contributes to their employer's Roth 401(k) plan, they could have a tax-free retirement plan.

There are other, further contrived examples, but I contest your assertion that there is no such thing as a tax-free retirement plan.

I perused the publication and it is pretty clear that NY taxpayers can subtract pension payments from NYC Teachers’ Retirement IRC 403(b) plan from their income. I am not an expert on NY state tax law so there may be some subtlety in there that I did not pick up on.

I agree with QDROphile, NY state is free to implement their tax law however they see fit, without regard to whether it makes sense to commenters on an internet message board.

Free advice is worth what you paid for it. Do not rely on the information provided in this post for any purpose, including (but not limited to): tax planning, compliance with ERISA or the IRC, investing or other forms of fortune-telling, bird identification, relationship advice, or spiritual guidance.

Corey B. Zeller, MSEA, CPC, QPA, QKA
Preferred Pension Planning Corp.
corey@pppc.co

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Maybe two examples will make my point!

The Tax Scandal That Will Not Quit:  The State of New York continues to treat the 403(b) Plan of the Teachers’ Retirement System of the City of New York as a “pension plan of local government”.  This treatment places TRS 403(b) distributions in the same 100 percent tax-exempt boat as a pension from the TRS Qualified Pension Plan.  See: Department of Taxation and Finance Publication 36 p.12 March 2015.

Examples:

1.  Michael has $1,000,000 in his 403(b) account. At age 63 Michael retires and begins to collect his $75,000 pension from the New York State Teachers’ Retirement System (NYSTRS). The NYSTRS does not have a 403(b) plan so Michael’s 403(b) account is with the Vanguard Group of Mutual Funds.  Michael distributes $60,000 annually from his Vanguard 403(b) account.

    Michael’s $75,000 pension is 100 percent exempt from New York State tax and the first $20,000 of Michael’s $60,000 distribution from his Vanguard 403(b) account is, also, exempt from New York State tax.  $40,000, representing the balance of the $60,000 distribution, is taxed by New York State.  Michael is in full compliance with the tax laws of the State of New York.  

2.  Mary, also, has $1,000,000 in her 403(b) account.  At age 63 Mary, also, retires and begins to collect her $75,000 pension from the Teachers’ Retirement System of the City of New York (TRS). Mary, also, distributes $60,000 annually from her TRS 403(b) account.  

         Mary’s pension is 100 percent exempt from New York State tax and contrary to law, Mary’s distribution of $60,000 from her TRS 403(b) account is, also, 100 percent exempt from New York State tax.  

The TRS 403(b) Plan began in 1970 and has been, historically, referred to as the “Tax Deferred Annuity” or “TDA”.  Treating TRS 403(b) distributions as tax exempt income changes TRS 403(b) contributions from being tax deferred to being tax-free.  There is no such thing as a tax-free retirement plan.  How could such a colossal violation of New York State tax law persist for decades?  Who is watching the store?

RESULT:  Mary has paid no New York State tax on her TRS 403(b) contributions nor on the profits those contributions have generated and will continue to generate.  Moreover, she will pay no New York State tax on her 403(b distributions. 

Q.:  How many tax dollars were never collected by the State of New York? 

A.:  I will leave the answer to the New York State Department of Taxation and Finance.  

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Could you please give a citation for the source of your examples? Assuming it isn't official guidance from the governing tax authority with jurisdiction over NY state income taxation, (and it sure doesn't sound like it is!) I don't see how it is applicable to anything. Could be a completely worthless opinion - just like mine!  

And FWIW, (nothing) I agree with QDRO and CB's comments. For anyone who is interested, I have copied in below the language from the publication cited in the OP. Sorry, but I couldn't get the formatting to transfer properly.

 

 

Pensions of New York State, local governments, and the federal government Qualified pension benefits or distributions received by officers and employees of the United States, New York State, and local governments within New York State, are exempt from New York State, New York City, and Yonkers income taxes. This subtraction modification is allowed regardless of the age of the taxpayer or of the form the payment(s) take. 11 Publication 36 (3/15) This subtraction modification is allowed for a pension or distribution amount (to the extent the pension or other distribution was included in your federal adjusted gross income), including a distribution from a pension plan which represents a return of contribution in a year prior to retirement, as an officer, employee, or beneficiary of an officer or an employee of: • The United States, its territories, possessions (or political subdivisions thereof), or any agency, instrumentality of the United States (including the military), or the District of Columbia. • New York State including, the State and City Universities of New York and the New York State Education Department, who belongs to the Optional Retirement Program. (Note: Optional Retirement Program members may only subtract that portion attributable to employment with the State or City University of New York or the New York State Education Department.) • Certain public authorities, including: the Metropolitan Transportation Authority (MTA) Police 20-Year Retirement Program; the Manhattan and Bronx Surface Transit Operating Authority (MABSTOA); and the Long Island Railroad Company (LIRR). • Local governments within the state, including, but not limited to: • New York State (NYS) Teachers’ Retirement System; • New York City (NYC) Teachers’ Retirement System; • NYC Teachers’ Retirement IRC 403(b) plan; • International Union of Operating Engineers Local 891 Annuity Fund (Department of Education of the NYC School District); • NYC Superior Officers’ Council Annuity Trust Fund; • NYC Correction Captains’ Association Annuity Fund; • NYC Detectives’ Endowment Association Annuity Fund; • City University of New York (CUNY) Civil Service Forum Annuity Fund; • Sergeants Benevolent Association of the City of New York Annuity Fund; and • NYC variable supplemental funds (VSF), including: • Transit Police Officers’ VSF, • Transit Police Superior Officers’ VSF, • Housing Police Officers’ VSF, • Housing Police Superior Officers’ VSF, • Police Officers’ VSF, • Police Superior Officers’ VSF, • Firefighters’ VSF, • Fire Officers’ VSF, • Corrections Officers’ VSF, • Corrections Captain and Above VSF.

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1 hour ago, joel said:

There is no such thing as a tax-free retirement plan.

There it is again. It's not tax-free, because the distributions are still subject to federal income tax. Some states have no income tax at all. If the individual retired in one of those states, would you go around claiming that they got a tax-free retirement plan? Of course not, because they would be paying the taxes they are supposed to, which happen to be zero at the state level. Same in this case.

1 hour ago, joel said:

The TRS 403(b) Plan began in 1970 and has been, historically, referred to as the “Tax Deferred Annuity” or “TDA”.  Treating TRS 403(b) distributions as tax exempt income changes TRS 403(b) contributions from being tax deferred to being tax-free. 

This is deliberately misleading. The author is using a term established for federal tax law purposes and saying that it should apply to the state.

What's your stake in all this, if I may ask?

Free advice is worth what you paid for it. Do not rely on the information provided in this post for any purpose, including (but not limited to): tax planning, compliance with ERISA or the IRC, investing or other forms of fortune-telling, bird identification, relationship advice, or spiritual guidance.

Corey B. Zeller, MSEA, CPC, QPA, QKA
Preferred Pension Planning Corp.
corey@pppc.co

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Joel:

Surely there are other cities in New York with a 403b annuity fund for their teachers. Are they treated differently? Have you looked? In any event, there may be special legislation that applies only to NYC teachers. (The state can do what it wants with tax laws)

None of us here are likely to know the ins and outs of New York State tax law or feel that we need to argue the proper interpretation of that law with the bodies that enforce it.

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1. The two examples apply to the personal income tax returns of residents of the State of New York.

2.  Pensions from a NY local or state retirement system is 100 percent exempt from the resident income tax.  403(b) plans are NOT pension plans. The TRS of the City of New York is a Defined Benefit Pension Plan.

3.  In both examples federal income tax is fully applicable----no exemptions.

4.  "Michael" would have maintained his 403(b) account with the New York State Teachers' Retirement System if not for the fact that the New York State Teachers' Retirement System does not offer a 403(b) plan for its membership.

5.  Teachers outside of the City of New York use 403(b) private carriers.

6.  Michael, using a private carrier, understands the rule that only the first $20,000 of the $60,000 403(b) distribution is New York State tax-exempt. 

7.  The rule stated in number 6 applies only to those that have attained age 59.5.  So if Michael was younger than 59.5 he would pay tax on the entire $60,000.

8.  Mary, on the other hand, pays no New York state tax on her 403(b) income, regardless of her age, because her $60,000 distribution comes from the 403(b) plan of the Teachers' Retirement System of the City of New York. This is perpetually contrary to law.

It cannot be argued that a 100 percent tax emption applies only to the 403(b) plan of the TRS of the City of New York.  Remember, 403(b) plans like all supplemental savings plans (401(k),457(b), IRAs) are not pension plans and only income from a New York State or local retirement system is 100 percent exempt from the State's personal income tax.  

It cannot be argued that the 403(b) plan of the TRS of the City of New York is a "pension plan" because it is administered by the TRS of the City of New York.  

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Citation From Publication 36 of the New York Department of Taxation and Finance

Pension and annuity income exclusion:

If you were age 591⁄2 or older for the entire tax year, you may exclude up to $20,000 of your qualified pension and annuity income from your federal adjusted gross income for purposes of determining your New York adjusted gross income. If you became age 591⁄2 during the tax year, the exclusion is allowed only for the amount of pension and annuity income received on or after you became 591⁄2, but not more than $20,000. Qualified pension and annuity income includes:

  • periodic payments for services you performed as an employee before you retired;

  • periodic and lump-sum payments from an IRA attributable to compensation for personal services, but not payments derived from contributions made after you retired that are not attributable to compensation for personal services;

  • periodic distributions from an annuity contract (IRC section 403(b)) purchased by an employer for an employee, and the employer is a corporation, community chest fund, foundation or public school;

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"1. The two examples apply to the personal income tax returns of residents of the State of New York."

I doubt it. It's a little too convenient for both of these to have precisely the same numbers if they are actual returns. These are almost certainly hypothetical examples, which is fine to illustrate a point, but I still want to know the source of the "Tax scandal that will not quit" that you posted. Who wrote it? And when? Blog, newspaper article, whatever?

Someone obviously has an axe to grind - maybe legitimate, maybe not. I have no opinion on that.

Anyway, what Bill said! 

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On 2/17/2021 at 11:08 AM, joel said:

What say you?

What Luke said.  What Bill said.

I'm a retirement actuary. Nothing about my comments is intended or should be construed as investment, tax, legal or accounting advice. Occasionally, but not all the time, it might be reasonable to interpret my comments as actuarial or consulting advice.

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8 hours ago, joel said:

Examples:

1.  Michael has $1,000,000 in his 403(b) account.

I have not read all of the above, and am dense to begin with, but how did that get in there? What employment?

Luke Bailey

Senior Counsel

Clark Hill PLC

214-651-4572 (O) | LBailey@clarkhill.com

2600 Dallas Parkway Suite 600

Frisco, TX 75034

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Q.:  How does a TRS-TDA participant report a TDA withdrawal on his or her New York State personal income tax return?  

A.:  If the participant is younger than age 59.5 the withdrawal is fully taxable.  

That being said, a pension and annuity income exclusion applies when the participant is older than age 59.5.  This rule says the first $20,000 of the withdrawal is tax-free with the portion of the withdrawal in excess of $20,000 taxable.  Examples:  Paul age 53, withdraws $30,000 from his TDA account.  Paul pays tax on $30,000.  Mary age 62 withdraws $30,000 from her TDA account.  Mary pays tax on $10,000 ($30,000 - $20,000).  See: Department of Taxation and Finance publication 36 at page 13.

Section 13-561 of the New York City Administrative Code states:  The right of a person to a pension, a pension-providing-for-increased-take-home-pay, an annuity, or a retirement allowance, to the return of contributions, the pension, pension-providing-for-increased-take-home-pay, annuity, or retirement allowance itself, any optional benefit, any other right accrued or accruing to any person under the provisions of this chapter, and the moneys in the various funds provided for by this chapter, are hereby exempt from any state or municipal tax…”

Comment:  Simply put, section 13-561 states that all amounts received from the TRS Qualified Pension Plan are exempt from the personal income tax.

Section 13-582 i 3 of the New York City Administrative Code states:  “The exemption from state and municipal tax provided in section 13-561 for return of contributions shall not apply to withdrawal of tax-deferred annuity net contributions.”

Comment:  Notwithstanding the fact that the tax exemption applicable to amounts received from the TRS Qualified Pension Plan under section 13-561 does not apply to withdrawals from the TRS-TDA plan, the Department of Taxation and Finance tells us it does. See: Department of Taxation and Finance publication 36, March 2015 at page 12. 

The Department of Taxation and Finance needs to remove “NYC Teachers’ Retirement IRC 403(b) plan” from the list of plans on page 12. 

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Does copy-and-pasting an unsourced quote 2x in the same post make it more true?

What's your stake in this? Do you just have it out for teachers?

Edit: I see you cleaned up your post. Still, I am curious about the source of the Q&A and comment that you posted.

If you truly believe that the New York Department of Taxation and Finance are failing to uphold the law of the State of New York, then I would imagine your only recourse would be to sue them in the state's supreme court. Since you haven't been forthcoming about your relation to the topic I don't know if you would have standing to sue. Honestly I am having trouble coming up with a scenario where anyone would have standing to sue, even if your claim is true.

Free advice is worth what you paid for it. Do not rely on the information provided in this post for any purpose, including (but not limited to): tax planning, compliance with ERISA or the IRC, investing or other forms of fortune-telling, bird identification, relationship advice, or spiritual guidance.

Corey B. Zeller, MSEA, CPC, QPA, QKA
Preferred Pension Planning Corp.
corey@pppc.co

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  • 2 weeks later...
On 2/22/2021 at 3:13 PM, C. B. Zeller said:

 Do you just have it out for teachers?

 

C.B. :  I'm  one of these idealistic guys that just want the tax laws enforced as written.  Apparently, it's just fine with you that the taxing authority has misinterpreted a very basic and elementary tax law in favor of only one group of taxpayers.  I await your informed reply.

 

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18 hours ago, joel said:

I'm  one of these idealistic guys that just want the tax laws enforced as written.

As far as I can tell, the tax laws of NY state treat distributions from the NYC teachers' 403(b) plan as non-taxable.

Is that fair to others who receive distributions from 403(b) plans in New York that do not get the special treatment afforded to the NYC teachers' plan? I don't know, but that's a subject for the citizens of the state of New York and their elected representatives.

If people paying their fair share of taxes is your main concern, it seems to me there are far bigger fish to fry.

Free advice is worth what you paid for it. Do not rely on the information provided in this post for any purpose, including (but not limited to): tax planning, compliance with ERISA or the IRC, investing or other forms of fortune-telling, bird identification, relationship advice, or spiritual guidance.

Corey B. Zeller, MSEA, CPC, QPA, QKA
Preferred Pension Planning Corp.
corey@pppc.co

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joel:

I am not an expert in New York law, which is what governs here. But a quick google unearths this:

https://www.tax.ny.gov/pdf/advisory_opinions/income/a05_3i.pdf

If you have a problem with the legal interpretation here, have at it. But, as you have seen, this group is not going to dispute the opinion of a regulator acting in the area of its authority.

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